Student Loan Debt Crisis: How’d We Get Here and What Happens Next?

The amount of student loan debt and the rate of delinquency have been climbing for years now. If it seems like every new statistic is worse than the last, that’s because it is. Credit bureau TransUnion says more than half of student loan accounts are in deferral status, and FICO Labs found that a rising number of those debtors aren't paying those loans back.

The amount of student loan debt and the rate of delinquency have been climbing for years now. If it seems like every new statistic is worse than the last, that’s because it is. Two studies released this week are no exception.

Credit bureau TransUnion says that in the past five years, the average student loan debt each borrower carries has risen 30% to $23,829. More than half of student loan accounts, which add up to more than 40% of the total dollars owed, are in deferral status. This is just a temporary reprieve; students can defer for only a few years before they have to repay.

The trouble is, many of them aren’t doing so. FICO Labs found that delinquencies rose by 22% in five years. For the newest group of loans it studied, delinquency rates are 15.1% — higher than the 11% cited by the Federal Reserve in a November report. Like the Fed’s study, the FICO analysis doesn’t include loans that are in a deferred status — which means the number of people who can’t afford to pay back that money may be almost twice as high as what the official delinquency rates reflect.

This situation obviously can’t be sustained over the long term. “I think a few more years and it’s going to be a general crisis,” says Barry Bosworth, an economist at the Brookings Institution. Interest rates are unusually low right now; when they rise, more borrowers who were just keeping their heads above water are liable to become delinquent.

A Perfect Storm

The aggregate amount of debt has soared because many people decided to go back to school after being laid off, says Ezra Becker, vice president of research and consulting for TransUnion’s financial services unit.

In today’s economy, people increasingly need a college degree to be viewed as employable. The New York Times says this “degree inflation” comes at a serious cost to students. “In the late 1970s, the median wage was 40% higher for college graduates than for people with more than a high school degree; now the wage premium is about 80%,” it says.

And it’s getting more expensive to get those degrees. “We’re pushing more and more of the cost onto the students,” Bosworth says.

This year, the cost of tuition and fees at public four-year colleges went up nearly 5%, according the to the College Board, even as assistance fell. “The rapid growth in federal aid — which for a few years actually reduced the average net prices students paid — has ended,” the group said in an October report.

Waiting on a Turnaround

“It’s unclear whether or not it’s bottomed out,” says Frederic Huynh, senior principal scientist at FICO. One barometer of what future delinquency rates will look like is the credit quality of the people getting student loans today, he says. “If we look at some of the more recent vintages… more consumers have lower FICO scores,” which means more delinquencies.

The tide isn’t going to turn until the labor market for new graduates improves, Huynh says. New graduates need to secure a stable and steady paycheck, he says, but half of college graduates today are either underemployed or don’t have a job at all.

And even an improving job market isn’t going to help the nearly 30% of students who take out loans and never got a degree. This subset of borrowers will continue to struggle, Becker says, because they’ll be relegated to lower-earning jobs while saddled with the same level of debt as their more upwardly-mobile peers “The non-payment rates for people who don’t finish school is really high,” he says.

Another wrinkle is that the jobs today’s grads are in search of might not open up as quickly as everyone would like, because more parents are delaying their own retirements — often to help pay for their kids’ school loans. “It’s kind of a vicious cycle,” Becker says.

The Ripple Effect

The fallout from falling behind on a student loan can literally last for decades. Unlike most other debts, student loans are almost impossible to discharge in bankruptcy. Most student loans are federal loans, and the government can garnish paychecks, withhold tax refunds, and pursue other means for getting their money back.

There’s also the negative effect a default can have on a person’s credit score: Huynh says a person with a good credit history who stops paying their student loans could see their credit score drop by as much as 100 points. For instance, Becker says, for a car loan, “you might be paying 12% or 15% instead of 4%.”

The broader economic implications are troubling. Graduates struggling to dig out from a mountain of student debt also tend to put off getting married, buying homes, and having kids. And since a bigger chunk of their income will go towards servicing the mortgages or car loans they are able to obtain at higher rates, they’ll have less spending power when they do eventually buy big-ticket items like homes and cars. Consumer Financial Protection Bureau student-loan ombudsman Rohit Chopra warned last year that the magnitude of student loan debt could even hold back a housing recovery. “Student-loan borrowers are sending big payments every month to their loan servicers rather than becoming first-time homebuyers,” he said.